As investors desperately search for yield in a zero interest-rate environment, many are forgetting that total returns are ultimately more important in the long run.
The search for yield can lead to people adding little-understood investments to their portfolio, which can have disastrous results, said Chris Goolgasian, managing director at State Street Global Advisors.
“People think that CDs and savings accounts” are similar to investments like emerging-market debt, for instance, he said. “They think they all work the same way, and they reach and reach and reach, and soon they’re reaching in a shark tank,” Goolgasian said.
He called this the “optimistic unknown,” where people who are dissatisfied with well-known investments think that something unknown will have higher yields.
Goolgasian spoke Thursday at the Morningstar ETF Invest Conference in Chicago, speaking about how to take a multi-asset approach to generating income.
He said State Street Global Advisors has declined opportunities to build products that are based solely on yield return, saying that the industry needs a poster that says “total return, not yield.”
Robert Williams, principal and managing director at Sage Advisory, an investment firm focused on fixed-income asset management, agreed.
The way to build a multi-asset approach to generating income is to start by looking at valuation and staying true to that. “You have to look at yield and valuation together,” he said.
There are warning signs that an asset is about to peak, and many times it’s because “valuations are getting stretched and yield is getting stretched,” Williams said.
Kenny Feng, president and chief executive officer of Alerian, which provides indexes, data sets and analytics for master limited partnerships, said there’s peril in chasing yield.
MLPs have become very popular over the past few years because of the high yields offered and special tax considerations. MLPs started by investing in energy infrastructure, but the space has grown to include not just pipelines, but other investments such as fertilizer.
MLP growth is a good example of why investors and portfolio managers need to know the business that they’re investing in as they search to add assets.
“MLPs are long-term assets and you have to look at the total return. There’s a danger in chasing yield” especially for someone with a short-term horizon, he said, adding that by long term he meant at least five years.
He said MLPs can be very volatile, noting that during the financial crisis they fell 60 percent, but then rebounded to return the next year between 10 percent and 11 percent annualized.
How a multi-asset portfolio is built depends on the needs of the client, Goolgasian said. A client that’s 55 should be focusing on income, but a client who is 25 needs more growth. But if the client can’t tolerate the risk that sometimes comes with growth, that may translate to having more income in the portfolio, he said.
Views toward income investing will likely change once the Federal Reserve starts to reel in stimulus, the panelist said. Feng said that MLPs should still remain attractive investments because of the growth component, provided that interest rates don’t jump to say, 5 percent. “Then that’s a different conversation,” he said.
Williams the Fed will taper its quantitative easing program eventually, but he doesn’t think rates will rise sharply. “There’s the need to taper because the deficit is going down. But rates don’t need to go to 5 percent.”
When rates start to rise, investors need to look at their whole portfolio and not just the fixed-income side of it. “Look at all the proxies you have, utilities, REITs. They’re going to get hit,” he said.